Garmin Analysis Looking to the Future (Term Paper Sample)

Assignment 3: Garmin Analysis – Looking to the Future
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Abstract
Garmin Incorporated has gone through a face of rise to prominence in the periods of 2006 to 2008, the periods of 2009 to 2012 saw the emergence of aggressive competitors who have slowly been eating away Garmin’s market share. Garmin has five major lines of revenue streams which are: Outdoor, fitness, marine, automotive/mobile, and aviation. The automotive/mobile stream has been the bread and butter of Garmin which has slowing been eroding away due to declining sales. Garmin’s net sales declined by 2% in 2012 compared to 2011 and this decline was driven by the 6%2012 decline in revenues from the automotive/mobile segment. With this current situation and many other unimpressive situations in the Garmin’s financial statements, something has to be done fast. This paper presents three capital budgeting scenarios and conducts andanalyses on them to determine which one is viable and suitable for Garmin.
Keywords:decisions,NPV, IRR, PI
Introduction
The periods of 2004 to early 2009 saw Garmin Incorporated rise to prominence as a stable manufacturer of navigation, communication, information devices and applications engaging global positioning systems (GPS). Garmin managed to control of 50% of its market with much of its sales being driven by its automotive/mobile segment. From 2010 to 2012, aggressive competitors started eating into its market share, more so the automotive/mobile segment which used to be Garmin’s bread and butter (Garmin Ltd, 2012). Consequently, Garmin started to experience decline in sales with 2012 recording a 2% decline much of which was attributes to the 6% decline in revenue from the automotive/mobile income segment. Unfortunately, the situation is unlikely to change given the aggressive nature of Garmin’s competitors in coming up with alternative mobile devices and the shift in consumer demands. To rescue Garmin from further declining sales, a stable capital structure should be adopted. In this paper three capital budgeting scenarios have been presented; which are, assault on the smartphone market, the niche operator, and the status quo. This paper conducts an in-depth examination of the various opportunities that have been presented within these three scenarios utilizing capital budgeting analysis techniques.
Capital Budgeting Analysis of the Three Scenarios
Dlabey and Burrow (2008), define capital budgeting as a collective term that refers to mechanisms and tools used to evaluate expenditure on long-lived resources. Capital budgeting usually complements the use of cost allocation for decision making by taking into account the time value of money and the lump-filled nature of capacity resources.According to Patra (2009), capital budgeting appraisal methods should focus on investing in the project that will give the highest return and increase profitability. These methods can be divided into two categories: traditional methods and discounted cash flow or time adjusted methods. Traditional methods include the Payback period method (PB), and Accounting rate of return (ARR). The discounted cash flow criteria include Net Present Value (NPV), Internal Rate of Return (IRR) and Profitability Index (PI) methods.
For the three scenarios, the initial investment is $3 billion, to be invested over an 8-year period beginning January 1, 2013 at Garmin’s 12% current cost of equity. Garmin’s 2012, 4685 million in cash flows from operations will be used as the starting point for projections. The major assumptions are:
* In situations where sales and cash inflows are expected to decline the formula PV has been used to estimate cash inflows.
* In situations where cash inflow as are expected to increase, the formula for FV has been used to calculate the cash inflows.
The present structure as at 2012 of Garmin is as illustrated below.
Capital Budgeting structure

Amounts in '000' of dollars Except ratios and percentages


Outdoor

Fitness

Marine

Automotive/Mobile

Aviation

Net Cash Outflows from operations

Income before taxes 2010

150,973

86,499

62,431

205,887

71,482

577,272

Income before taxes 2011

171,245

107,881

60,092

171,717

73,226

584,161

Income before taxes 2012

167,734

114,274

35,725

231,618

75,177

624,528

Percentage of Net income before tax (2010)

26%

15%

11%

36%

12%

100%

Percentage of Net income before tax (2011)

29%

18%

10%

29%

13%

100%

Percentage of Net income before tax (2012)

27%

18%

6%

37%

12%

100%

Cash outflows for 2010 (percentages x Net cash from operating activities)

201,543

115,473

83,343

274,852

95,426

770,637

Cash outflows for 2011(percentages x Net cash from operating activities)

241,065

151,866

84,593

241,729

103,082

822,334

Cash outflows for 2012 (percentages x Net cash from operating activities)

183,907

125,292

39,170

253,951

82,426

684,745

Table 1: Garmin’s capital structure 2012
1 Scenario I: Assault on the Smartphone Market
In this scenario, the assault on the smartphone market should begin in 2013 where majority of the company’s resources and capital will be directed towards assaulting this market. The capital needs will require external financing of about $3 billion for strategic acquisitions, research and development and other growth needs. Non-core businesses like fitness, marine units, and aviation will be de-emphasized. Consequently, sales in them will have to deteriorate for the sake of increased sales in the smartphone segment. In year three of this project, non-core operations will be divested to gain $500 million in cash. Rapid decline will be experienced in the automotive segment but this will be offset by sales in the $65 billion smartphone market which is growing at 20% clip every year. Garmin’s market share in this industry currently stands at zero. Existing competitors in the market include Blackberry, Google, Apple, HTC and Company, and Nokia among others.

Outdoor

Fitness

Marine

Automotive/Mobile

Aviation

Net Cash inflows from operations

Present Value of cash inflows

Year 2010

201,543

115,473

83,343

274,852

95,426

770,637


Year 2011

241,065

151,866

84,593

241,729

103,082

822,334


Year 2012

183,907

125,292

39,170

253,951

82,426

684,745

611,379

Future Cash Outflows







-

Year 1

205,976

140,327

43,870

284,425

92,317

766,914

684,745

Year 2

230,693

157,167

49,134

318,556

103,395

858,944

766,914

Year 3

130,901

89,181

27,880

356,782

58,669

1,163,413

1,038,762

Year 4

116,876

79,626

24,893

399,596

52,383

673,374

601,227

Year 5

104,354

71,094

22,226

447,548

46,770

691,992

617,850

Year 6

93,173

63,477

19,845

501,253

41,759

719,507

642,417

Year 7

83,190

56,676

17,718

561,404

37,285

756,273

675,244

Year 8

455,347

310,219

96,982

628,772

33,290

1,524,611

1,361,260

Total PV

6,388,419

Less Investment of $3Billion

3,000,000

NPV

3,388,419

Pay Back Period

1 /2 year

0.5

Profitability index (PI)


2.13

Table 2 NPV, Payback Period, and PI calculations in Scenario I
The purpose of every capital budgeting analysis is to determine if a project’s benefits are large enough to pay back the company for its cost of assets, cost project financing, and a rate of return that sufficiently compensates the firm for the risk inherent in the cash flow estimates (Brigham &Daves, 2010). According to Dlabey and Burrow (2008) positive NPV signifies the project is viable, profitable, and can enable the company recover its initial costs. A zero NPV infers a break-even point where no profits or loss is realized, and a negative NPV infers the benefits from the project are not large enough to recover initial costs (Besley& Brigham, 2008). In this respect, negative NPVs are often rejected. The first scenario, which involves assaulting the Smartphone market, would produce a positive NPV of $3.38 billion at the end of the eight-year timeline.
A look at the Profitability index shows that this project when pursued shall generate a PI of 2.13. According toPatra (2009), Profitability index is a cost benefit ratio which should be greater than 1 for a project to be accepted. When the PI is less than 1, such a project should be rejected. This first scenario investment proposal has a PI of 2.13, which infers that this project should be accepted.Thepositive NPV of $3.38 billion and the PI of 2.13 could be strong reasons to pursue this first approac...